20 July 2023
The subject of interest rates has been in the headlines many times since the Covid-19 pandemic began.
The central interest rate, known as the “base rate”, informs many aspects of personal finance, including:
- Acting as a guide for fixed- and variable-rate mortgage lenders, and dictating the amount of interest paid on tracker-rate mortgages
- Influencing interest rates on other forms of borrowing, such as credit card loans
- Informing how much interest you may receive on your cash savings.
As of June 2023, the Bank of England (BoE)’s base rate is 5% – the highest it has been since 2008.
Read on to find out why the base rate has been pushed so high, how the UK’s interest rates compare to those of Europe and the US, and what the BoE could do next.
The Bank of England has raised the base rate 13 times since December 2021
Following the imposition of lockdowns in the UK, the BoE reduced the base interest rate to just 0.1% (a historic low) in order to make borrowing more affordable for consumers in extenuating circumstances.
The base rate remained at 0.1% until December 2021, at which point the BoE increased it 13 consecutive times, until it reached its current rate of 5% in June 2023.
A key factor in understanding why the BoE has pushed interest up in this manner is inflation. In theory, when inflation rises, increasing the base rate can help to slow consumer spending and curb the continued surge in inflation.
When the pandemic hit, UK inflation stood at just 1.5%, according to the Office for National Statistics (ONS).
This rate was lower than the BoE’s target inflation rate of 2%. So, in March 2020, the BoE lowered the base rate to just 0.1%, encouraging consumers to borrow money cheaply and spend more during a time of significant uncertainty.
After lockdowns eased and the economy reopened, inflation began to rise. As of June 2023, it stood at 7.9%, after peaking at 11.1% in October 2022. Of course, these rates sit far above the BoE’s 2% target.
As such, the BoE has raised interest to target rising inflation. So far, this tactic has not stifled inflation as effectively as the BoE may have hoped, leaving consumers wondering what might be next – something we’ll discuss later in this article.
The BoE’s continued base rate hike over the past 18 months has made a big difference to many people’s financial circumstances. Here are just a few examples of what has changed.
- Mortgages have become more expensive on the whole. The ONS reports that in 2022, mortgage repayments on the average semi-detached house rose by 61%. As of 19 July 2023, Moneyfacts reports that the lowest rate available on a five-year fixed agreement stands at 5.69%.
- Loans of any kind may cost more. High interest does not just affect mortgages, but borrowing in general. If you are taking out credit card loans, a car finance agreement, or any other type of loan, you may find your interest rate is higher than in the previous few years.
- Your investments could be affected. Some asset classes, in particular gilts and bonds, often perform conversely to interest rates. So, if interest is high, gilts and bonds you hold may have performed poorly in the past 18 months. Alternatively, some assets such as dividend-paying stocks might offer more favourable returns in light of rising interest rates.
- Cash savings may be seeing more substantial returns. Since the BoE began hiking the base rate, your cash savings might be paying higher interest as a result. Be aware that at a certain point, your cash savings may breach the Personal Savings Allowance (PSA) and could incur a tax bill; you can read our insights about the PSA on our news page.
*Investments carry risks. The value of your investments (and any income from them) can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.
*Your home may be repossessed if you do not keep up repayments on a mortgage or other loans secured on it.
After reading how UK interest rates may be affecting your money, you could be wondering: “are rising interest rates par for the course after a global event, and how are other countries’ rates faring compared to the UK base rate?”
Keep reading to find out how the US and Europe’s central interest rates have moved since the Covid-19 pandemic began.
The US Federal Reserve has paused their interest rate hikes since May 2023
In a similar pattern to that of the BoE, the US Federal Reserve (Fed) raised interest rates after inflation began to rise in the country.
According to the UK Commons Library, in June 2023, the Fed “skipped” its monthly interest rate rises for the first time in more than a year. At its last reported rate, US interest stood between 5% and 5.25%.
This, perhaps, comes down to the successful slow in US inflation. According to Trading Economics, inflation grew to just 3% in the year to June 2023, its lowest level since March 2021.
Despite this pause in interest rate hikes, the Fed has implied that it will likely implement further interest rate increases later in 2023.
What’s more, forecasters say the country is heading for a recession. A USA Today report suggests that “the Fed’s high interest rates will eventually be felt more profoundly by consumers and businesses”.
So, although the Fed has paused for reflection in recent months, there is nothing to suggest that further interest rate rises might not be enforced down the line. Although US inflation is faring well in comparison to the UK, the long-term health of the US economy is not guaranteed.
European interest rates have remained low in comparison to other regions
In light of Russia’s invasion of Ukraine and the effects of the pandemic, it would not be surprising to learn that European interest rates had hit challenging territory.
Nevertheless, the European Central Bank (ECB) has kept interest across fixed- and variable-rate lending under 5%, with the highest rate reported as of June 2023 standing at 4.25%.
Inflation in the Eurozone eased to 5.5% in the year to June 2023, down from 6.1% in the previous month, suggesting that the ECB’s strategy of maintaining interest rates at a “medium” level could be paying off.
Of course, in the case of the UK, US and European interest rate rises, there are more factors at play than just inflation. Our latest global market update offers fine-grained insights into the economic circumstances across these regions.
Working with a financial planner can help your wealth adapt to a high-interest climate
Returning now to the UK, your wealth may already be being directly affected by the BoE’s interest rate hikes.
Although this might feel like cause for concern, working with a financial planner can help you regain peace of mind. With a robust financial plan in place, your finances may be able to adapt more easily to this changing interest and inflation climate.
Indeed, as Schroders suggests in their economic forecast, the BoE could keep raising the base rate while inflation remains “sticky” at almost 8%. Some economists think the base rate could even surpass 6.5% before the end of the year – so if your wealth is under pressure from rising interest rates, now could be the time to discuss this with your financial planner.
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This blog is for general information only and does not constitute advice. The information is aimed at retail clients only.